DBRS Confirms TimberWest Stability Rating at STA-3 (low); Removes from Under Review – Developing

DBRS has today confirmed the stability rating of TimberWest Forest Corp. (TimberWest or the Company) at STA-3 (low). The confirmation removes TimberWest from Under Review with Developing Implications status where it was placed on November 1, 2006, following the proposed federal tax changes for income trusts effective in 2011. DBRS expects that TimberWest will not be affected by the proposed tax changes over the next five years at a minimum, although the longer-term impact remains uncertain.

TimberWest is currently not subject to the proposed income tax legislation for income trusts, given its status as a stapled unit corporation. However, there remains the possibility that its distributions will eventually be taxed like an income trust, due to the similarities of the Company’s structure relative to income trusts. In the event that TimberWest is affected by the proposed tax change, the Company has available tax shelters to limit the impact for several years beyond 2011. As such, a change in the rating is not currently warranted.

The Company’s stability rating remains above that of most commodity-oriented companies, particularly forestry companies. The lower ratings reflect: (1) the pure commodity nature of most forestry products, which exhibit significant price fluctuations through a cycle; (2) low or negative earnings over the past decade, mainly related to high energy and raw material costs, and sensitivity to Canadian dollar strength; and (3) some companies (TimberWest included) operate on the west coast of Canada and are part of the coastal forestry industry. The coastal industry is high cost, has militant labour unions, and had to contend with many years of pro-labour government.

TimberWest’s rating above the forest products industry average is supported by the following factors: (1) The Company mainly cuts logs, a low-capital intensive and niche business. (2) Logs are sourced primarily from privately owned forests, which enable the Company to avoid stumpage rates and export logs at superior prices, and is the least capital-intensive part of the forestry industry. (3) Asset life is long term, with very limited fixed assets, and capital expenditure are minimal. (4) The Company has reasonable sponsorship and access to the capital markets, given its favourable balance sheet and solid BBB (high) Senior Unsecured Debentures credit rating, which is among the highest ratings in the industry. TimberWest is expected to generate favourable, albeit modestly weaker, financial performance over the near term. Strong log demand in Japan and higher-margin land sales, which primarily led to earnings growth in 2006, are expected to persist. However, lower domestic log prices (from excess supply), lumber segment weakening (and possible sale of its Elk Falls mill), high production/input costs, and relative strength in the Canadian dollar are expected to constrain earnings. DBRS expects TimberWest to easily fund its distributions (which totalled $83.6 million in 2006), with capex continuing at low levels. TimberWest’s balance sheet is also likely to remain conservative.

Note:
All figures are in Canadian dollars unless otherwise noted.